5% Is The New 4%?

The context is sustainable withdrawal rates in retirement. The standard is that 4% was found by William Bengen to be sustainable 93% of the time in a Monte Carlo simulation. Looking backwards, it never failed. We've written about this extensively here. In the last few years or so there has been plenty of content positing that 4% is no longer safe, that 3% should be the number or even 2.5%. Here's well known expert Wade Pfau calling for 3%. Here's a table of failure rates of various asset allocations and withdrawal percentages from an article at Return Stacked Portfolio Solutions.

I would note that their numbers for failing at 4% are lower than any others I've ever seen. Hopefully they're correct.

The actual 4% rule says start at 4% and then adjust up for inflation. That does not sound optimal to me because you could quickly get up close to 6% at an early age which starts to flirt with disaster a little bit. I've long maintained that the growth in the portfolio, presumably from the equity allocation, will take care of the inflation issue. If you take no more than 1% every quarter, then you should never run out of money. Life though sometimes gets in the way with large, unexpected expenses which is another risk to sustainability. 

The idea that 4% might no longer work has never really resonated with me, obviously taking less than 4% reduces the risk of outliving your money. Like any advisor, I've got clients who have been taking more than 4% for quite a while and it's working out just fine, conceding that other than 2008 and 2022, the market has done pretty well over the last 20 years. 

The point of the above linked post by Returned Stacked is in support of using their two recently listed ETFs that offer leveraged exposure to stocks and managed futures with symbol RSST or leveraged exposure to bonds and managed futures with symbol RSBT. The funds offer 100% to the traditional asset and 100% to managed futures. That leverage is known as return stacking and something we've written about a lot over the last year and few months. 

The takeaway is that their number crunching shows that stacking 20% of managed futures on top of whatever normal-ish stock/bonds mix an investor might use reduces the odds of failing at a 4% withdrawal and depending on the mix would make 5% pretty safe as follows.

So what should anyone do with this data? Anyone wanting to follow what is implied in their work could simply use one of their two funds to build their portfolio. Build out equities, say 60%, however you want, then for the rest, 20% into whatever "regular" fixed income and the final 20% into their 100/100 fixed income/managed futures fund. Their equity product could be used in the same way or both could be used proportionately to get to their suggested 20%.

If the leverage makes you a little uneasy (it does me) then managed futures can be added in to have a meaningful impact versus plain vanilla 60/40 without using leverage. Here's a couple of examples without leverage.

Returns are competitive and the standard deviation comes down by a noticeable amount.  

And the large weighting to managed futures, I think 20% is very large, never caused a terrible year.

 

If I was going to have 20% in strategies that provide the diversification that managed futures do, I don't BTW, I would want to spread it out among several strategies. Over the next 30 years, managed futures could work great in 29 of those years but what if the one year it goes down a lot, coincides with a year that stocks go down a lot? Yeah, it shouldn't happen but what if it does? It is extremely unlikely that a bunch of different diversifying strategies would all fail at the same time though.

Small exposures to diversifiers like managed futures, yes. Then, get somewhat aggressive raising cash to manage sequence of return risk. That is now much easier with T-bill yields at 5%, there really isn't a cash drag for the time being. 

The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. They are not intended to constitute legal, tax, securities or investment advice or a recommended course of action in any given situation.